Cost Allocation and Apportionment

Cost Allocation:
Certain items of overhead costs can be directly
identified with a particular department or cost centre
as having been incurred for that cost centre.
Allotment of such costs to departments or cost
centres is known as allocation. Thus, allocation may
be defined as “the allotment of whole items of cost
centres or cost units.”

A point to be understood is that allocation can be

made only when exact amount of overheads that
result solely from the existence of that cost centre.

In brief, in order that an overhead can be allocated , it

should meet both of the following conditions:
(a) The cost centre must have caused the overhead
to be incurred.
(b) The exact amount incurred in a cost centre
must be known.

Apportionment:
Certain overhead costs cannot be directly charged
to a department or cost centre. Such costs are
common to a number of cost centres or
departments and do not originate from any specific
department. Distribution of such overhead costs to
various departments is known as apportionment.
 Thus, apportionment may be defined as “the
allotment of proportions of items of cost centres or
cost units.”

Difference between Cost Allocation and

Apportionment

Cost Allocation Apportionment

1. Deals with whole items of 1. Deals with proportions of

costs.
2. Is a direct Process
3. Cost allocation depends
upon the nature of cost.
items of cost.
2. Is a Indirect Process for
which suitable bases are to be
selected.
3. Apportionment does not
depend upon the nature of
cost.

Apportionment on Reciprocal Basis:

This method is used when service departments are
mutually dependent. This means a service
department not only provides its services to other
service departments but also receives services of
other services departments.
 The following methods may be used for
apportionment of overhead costs on a reciprocal
basis:
1. Simultaneous Equation Method
2. Repeated Distribution Method
3. Trial and Error Method

1. Simultaneous Equation Method

In this method, the following algebraic equations
help in finding out cost of service departments.

Illustration 1. A company has three production

departments and two service departments.
Distribution summary of overheads is as follows:
Production Departments Service Departments
A Rs.3,000 1. Rs.234
B Rs.2,000 2. Rs.300
C Rs.1,000

The expenses of service departments are charged

on a percentage basis which is as follows:

A B C 1 2
1. 20% 40% 30% - 10%
2. 40% 20% 20% 20% -
Find out the total overheads of production
departments using the following methods:
A) Simultaneous Equations Method
B) Repeated Distribution Method

Simultaneous Equations Method

Let x denotes total overhead of service department 1
y denotes total overhead of service department 2
Therefore, x = 234 + 0.2y………………1
y = 300 + 0.1x ……………...2

x – 0.2y = 234……………1
- 0.1x + y = 300……………..2
To solve the equations, re-arrange these and multiply
by 10 to eliminate decimals.

10x – 2y = 2,340……………..1
- x + 10y = 3,000……………..2
Multiplying second equation by 10 and adding
10x – 2y = 2,340
-10x + 100y = 30,000
98y = 32,340
y= 32,340 ÷ 98
y = 330
x = 300
 Secondary Distribution Summary
Production Departments
Total A B C
Total as per 6,000 3,000 2,000 1,000
primary summary
Service Dept. 1 270 60 120 90
(90% of 300)
Service Dept. 2 264 132 66 66
(80% of 330)
Total 6534 3192 2186 1156

b) Repeated Distribution Method

 Production Departments Service
Departments

Items A B C X Y
Total as 3,000 2,000 1,000 234 300
per
primary
summary
Service 47 94 70 -234 23
Dept.1
Service 129 65 65 64 -323
Dept.2
Service 13 26 19 -64 6
Dept.1
Service 2 2 2 - -
Dept.2
Total 3,191 2,187 1,156 - -
Illustration 2.
The following particulars relate to ADM
Manufacturing Company which has three production
departments A, B, C and two service departments X
and Y.

A B C
DEPARTMENTS X Y
Total 6,300 7,400 2,800 4,500 2,000
overheads
as per
primary
distribution
The company decided to apportion the service
department costs on the following percentages:
A B C X Y
X 40% 30% 20% - 10%
Y 30% 30% 20% 20% -
Find the total overheads of production departments
using simultaneous equations method.

Trial and Error Method: In this method the cost of

first service department is apportioned to other
service departments only in the given percentage.
The cost of the second service departments then is
 apportioned to the first and other service
departments. In this way, when the cost of all service
departments has been apportioned, the process is
repeated till the service departments costs are reduced
to negligible amounts. In this way, the total cost of
each service department is found out by trial and
error.

Apportionment on Non- Reciprocal basis (Step

Ladder Method)
This method is used when a service department
renders services to other service departments but does
not receive services of the other service departments,
ie. when service departments are not inter-dependent.
In this method, the service departments are arranged
in descending order of their serviceability. The
service department which serves the next largest
number of departments is taken up next and its cost is
apportioned to other service and production
departments excepting the first service department.
This process is continued till the cost of the last
service department is apportioned.

Illustration 3
A factory has three production departments A, B, and C
and two service departments P and Q. The overhead
departmental distribution summary shows the
following:
Production Departments Service Departments

A Rs. 6,50,000 P Rs. 1,20,000

B Rs. 6,00,000 Q Rs. 1,00,000
C Rs. 5,00,000

The service department expenses are allotted on a

percentage basis as follows:

Production Dept. Service Dept.

A B C P Q
Service Dept. P 30% 40% 15% - 15%
Service Dept. Q 40% 30% 25% 5% -

Show how the expenses of the service departments

are to be charged to production departments using
Simultaneous Equation Method and Repeated
Distribution Method.

Illustration No. 4
 A Company has three production departments and
two service departments.
Distribution Summary of overheads is as follows:
Production Dept. Service Dept.

A B C X Y
Total 13,600 14,700 12,800 9,000 3,000
overheads
as per
primary
distribution

The expenses of service departments are charged on a

percentage basis which is as follows:

Production Dept. Service Dept.

A B C X Y
Service Dept. X 40% 30% 20% - 10%
Service Dept. Y 30% 30% 20% 20% -

Apportion the cost of service departments by using

the Simultaneous Equation Method and Repeated
Distribution Method.